Kris Webster, an Australian analyst, recently conducted research about global pallet pooling through a series of interviews with key executives from both customer and vendor sides. He offers in the following story some valuable insight into the subject. While Kris was trying to make global generalizations, some of his conclusions may be found to be confusing or contentious to North American pallet people.

Let's consider his conclusions:

In high volume industries, pallet pools provide a lower total industry cost than one-way white pallets. At similar levels of penetration, commercial pools are generally lower cost than co-operative pools. Because of large capital investment requirements for a pool and years of operating losses after launching, there is a substantial barrier to entry.The dominant pool in a region will achieve lower unit cost than smaller competing pools, but both will prosper.

The last two would be widely accepted by pallet people, based on a number of real world examples. His first two conclusions, however, may not ring true to many in our industry.

His first argument, that pallet pools provide lower total industry cost than 'one way' pallets in high volume applications is a no-brainer, assuming that by pool pallets he is referring to multiple use pallets, and by one-way pallets he is really referring to limited use or single use pallets. CHEP in North America is a one-way pallet in terms of the way it moves through the supply chain, but it is well understood to be a multiple use pool pallet. Multiple use white pallets also increasingly move through the U.S. and European supply chains on a one way basis, with recyclers purchasing them empty and reselling them. These pallets are pooled, and are commonly accepted within the industry as being a pool.

I suspect that some would interpret the bullet to mean that Kris feels white pallets cannot be effectively pooled. I don't believe this was his intent; for example he cited the EPAL white pallet system as being extremely effective in Germany. He was trying to generalize on a global scale, and his interviews led him to generally believe that quality is an issue with white wood systems.

His second conclusion, that commercial pooling is cheaper than cooperative pooling, Kris again makes on the basis of his many interviews. He argues that lack of centralization and policing costs tend to make cooperative pools more expensive, a conclusion that is guaranteed to ruffle the feathers of people at CPC and EPAL, as well as some vendor-specific U.S. white wood programs that deliver terrific value. He says that the profit margin made by a commercial pooling company is balanced by efficiency gains by pallet users. This assertion flies in the face of the Cleveland Consulting Associates (CCA) report of a dozen years ago that showed cooperative pooling to be cheaper, as well as a number of independent studies that have been commissioned by the Canadian Pallet Council which support the cost effectiveness of pallet ownership in a cooperative pooling environment versus rental.

None the less, we should be careful not to shoot the messenger. If in interviewing high level pallet users and pallet industry people, Kris, a newcomer to the pallet industry, is picking up conflicting information, we need to listen carefully. These arguably inaccurate or confusing messages about white wood, industry terminology, and cooperative pooling, perhaps indicate that we still have some work to do in getting accurate information and definitions of terms out to the marketplace.

By Rick LeBlanc

Contributing Author

While pallet pooling is done somewhat differently by various companies in a great many countries, Kris Webster believes there are certain fundamentals about pooling that can help investors better understand the fragmented and complex pallet marketplace.

“What we’re all about is making that complexity more coherent,” said Kris, an analyst at Capital Partners.

Capital Partners, an independent investment analysis firm, examined the pallet industry for an exclusive group of Australian and international investment funds. Kris shared the results of the study at the annual meeting of FEFPEB, a European pallet industry association, and subsequently in an exclusive interview with Pallet Enterprise.

“We looked at the costs, competition and regulation in an industry to determine the long-term optimal outcome and the likelihood that the industry will get there,” he said at the FEFPEB meeting in Rotterdam, cautioning that his analysis was from an outsider’s perspective. His approach was to look at the industry from a strategic perspective with a financial overlay. Ultimately his concern was the investment potential for pallet pooling.

The analysis of the pallet industry proved to be challenging. The analysts found little information available in the area of pooling, so they talked with pallet pool managers, pallet manufacturers and recyclers, and executives of pallet-using businesses in order to obtain anecdotal information.

Rapid Growth of Pooling

In explaining the growth of pallet pools globally, Kris noted that in high volume industries, pallet pools provide a lower total cost than traditional one-way white pallets.

“On a single use basis, obviously the white pallet is cheaper,” Kris emphasized, “but when you start using those pallets over, what we’ve tried to do is capture all the costs all along the value chain, not just the costs to the manufacturer and the recycler. Put simply, over time it is cheaper to buy a good quality pallet – and then collect, repair and reuse it – than to continually buy new, poorer quality white pallets.”

In spite of the higher initial purchase cost of good quality pallets and the ongoing costs of maintaining them, pooling often provides a better return because fewer new pallets are required. Better quality pallets associated with pools also result in less product damage and production stoppages stemming from material handling equipment that jams with low quality pallets.

Regardless of whether a pool is operated commercially or as a co-operative, pool pallets are more efficient. After several uses the pooled pallet becomes less expensive than the white pallet on a per-trip basis. The critical factor is pallet loss. If the pallet is lost before the break-even point is reached, the benefit of the pool is not realized. “Pallet loss is one of the main hindrances to starting a pool,” Kris said.

Capital Partners estimated a cost savings of 30% for pooled pallets compared to white pallets and indicated that other studies have reached similar conclusions. One U.S. consulting firm estimated a 45% savings from pooled pallets over white pallets in the U.S. market, and a French study determined that pallet pools are up to 25% less expensive than white pallets.

The savings as reported in the studies are supported by anecdotal evidence from pallet users. “A common quote from pallet users,” said Kris, “is that moving to a pallet pool is a one-way step –‘once you go to a pallet pool, you won’t go back.’ ”

The remarkable growth worldwide of pallet pools is further evidence of their attractiveness to industry. In the developing U.S. market the growth rate is significantly above Gross Domestic Product (GDP), and even in the mature market of Australia there is still growth at or in excess of GDP.

Capital Partners estimated that Europe is closer to Australia than the U.S. in terms of growth with a few large commercial pools and the large EPAL co-operative pool.

“This growth is due to the cost advantage of pools,” Kris emphasized, “not only in terms of the increased utilization of pallets, but also savings from increased pallet quality.” Other factors driving pallet pool growth are trends towards outsourcing non-core activities and increasing environmental concerns.

Steep Barriers to Entry

One pool operator told Kris that starting a pallet pool is like selling the first telephone. “While a great innovation, a telephone has no value unless other people have telephones,” the American pool executive explained. “Similarly a co-operative pool is only valuable if there are other users to exchange pallets with.”

One requirement in launching a pool is the presence of a powerful sponsoring organization. Pools do not form independently, in spite of lower costs, but require the support of such a body to enforce standards.

In Canada, the Grocery Products Manufacturers of Canada (GPMC) created a standard and set up a watchdog group, the Canadian Pallet Council (CPC), to manage the program, Kris noted. The GMA pallet system in the U.S. had similar beginnings to the CPC but after a few years had no body to enforce its standards, resulting in ensuing problems. In Europe, railways in Germany and a few other countries created the standard Europallet in the 1950s that EPAL now manages.

“A standard quality pallet is absolutely imperative to the success of a pool as is the ability to exchange the pallet wherever it is sent,” said Kris.

When CHEP launched its business in the U.S., it initially wanted to focus on the California market in order to limit the size of its initial investment. “The problem is that there is no California market, just a U.S. market,” Kris said.

“They entered with Proctor & Gamble as their major client, and they began shipping them anywhere they wanted, to the East Coast, wherever it was.” According to Kris, CHEP had three options. The first two were not winners. They could accept that pallets would be lost or spend a lot of money for transportation to get them back; both negate the financial benefits of pooling.

“None of these costs will ever go away unless you expand the pool because California customers are always going to be shipping the pallets out,” noted Kris. “So the third option is really the only option, which is to open more depots across the U.S.” While initially very expensive, over time it becomes less expensive as the pool grows, reducing costs for pallet losses, transportation and dwell time.

Companies in the highest volume industries benefit the most from pools that can lower their pallet costs, which encourages other companies and other pools to join. “The highest volume industries will have the greatest benefit,” Kris said. “These guys will come in and help the industry achieve cost efficiencies and will help make it more and more attractive for other suppliers to join.”

The caveat is that it does not work across all industries. PRS is a niche European pallet pool for the chemical industry with about an 80% share in that market segment. “Because their pallet is a different size designed to hold 44-gallon drums, it is never going to infringe upon the commercial pools, and likewise the Europallet pool, CHEP and LPR are not going to infringe upon it,” said Kris. “There are few economies to be gained because they are different sizes. They won’t compete against each other.”

Cooperative, Commercial Pools

Kris classifies pools as commercial pools, including those run by businesses such as CHEP, LPR, PECO, and so on, or cooperative pools, such as those managed by CPC or EPAL, which are nonprofit organizations. Given similar levels of market penetration, commercial pallet pools generally cost less than co-operative pools, he said.

Pallet costs are similar for both commercial and cooperative pools, Kris noted. The pallets are of like quality, they cost about the same to buy, and depreciation is about the same. Where commercial pool pallets are exchanged, as in Australia and the U.K., repair and transportation costs are about the same, too, because they only return to the depot when they are broken.

The most obvious difference is that commercial pools charge a profit margin that co-operative pools do not. However, the co-operative pool faces the additional cost of policing pallet quality. EPAL, for example, has the power to punish manufacturers that cheat. Since users are responsible for repair, they have an incentive to pass on damaged pallets without repairing them. While this is an optimal decision for the individual, it is a poor outcome for the group as quality of the pallet pool declines. The CPC requires users to repair 25% of their pallets yearly. Like EPAL, the CPC may fine participants if they do not comply.

As a result, cooperative pools are either prone to significant policing costs or poor quality resulting from lack of policing. In either case, this increases the cost of co-operative pools over commercial pools. “Since this is an issue of ensuring consistent pallet quality, this cost is magnified in high volume industries,” said Kris. Cooperative pools may also suffer from lack of centralization of some functions, such as procurement and repair, as well as by large capital requirements and administrative costs.

One-way pallet rental programs experience greater transportation costs, Kris commented, because all pallets return to the depot after each trip. In spite of this, customers seem willing to accept this higher cost since one-way pallet rental educes their handling, sorting and administration costs. The trend to outsourcing of non-core business appears to be driving the growth in one-way trip pools, Kris noted.

Why cooperative pools dominate some markets and not others in large part has to do with how unit costs decrease as the density of the pool increases. Where cooperative pools have achieved significant size and lower unit costs over time, they have been able to defend against entry of commercial pools. The advantage of entering a market first has aided existing cooperative pools, such as the CPC in Canada as well as EPAL in Germany and Italy, in surviving in the face of more recent commercial pool competition.

Transnational Pools

Each time a pool increases its service area, it is initially costly but eventually results in bringing down the unit cost of the pool as the pool achieves greater penetration. In Japan, for example, the beer industry set up its own co-operative pool and later invited other beverage companies to join to reduce the unit cost of the pool.

The same idea holds true in North America. Because CHEP is in Canada and the U.S., it has certain logistical advantages over the CPC. “If someone ships CPC pallets to the U.S., they are facing a loss or huge transport costs to get them back,” Kris said, “whereas CHEP has the infrastructure there to pick them up. This is becoming more and more important as you see these free trade agreements coming into play.”

In Europe, prior to about two or three years ago, CHEP and LPR, the two big commercial pools there, were very “country-centric,” Kris observed. “Now they’ve gone to a very pan-European structure, and that’s necessary in order to be able to offer lower cost.”

The only country where the Europallet is not notably evident at all is the U.K. “That will create a problem because there is a lot of trade between the U.K. and continental Europe,” said Kris. “It will marginalize the smaller pools.”

In spite of this, he believes the EPAL pool has one of the greater chances of survival due to its position in a mature market. “There is talk of competition in the English market,” Kris said, emphasizing that the real competition is between CHEP and the Europallet pool. “These smaller pools don’t really have the breadth to cover the entire market to make them a competitor to large-scale pools. The broad coverage is absolutely necessary to decrease costs, and the guys with the head start are CHEP and the Europallet pool.”

One important trend in Europe that has a direct impact on pooling is the shift towards very centralized factories and warehouses. U.S. cereal maker Kellog’s now has few centralized factories across Europe specializing in certain products, Kris noted. “Basically, if you want to buy All Bran, whether you are in France, Portugal or Belgium, you are going to be getting it from the U.K. As that increases, and as cross-border movements become a much larger part of the European trade, it is important for the pool to follow that.”

Room for Two Pools

The inability of multiple pallet pools to survive in the same market can in large part be explained by the ongoing unit cost reductions enjoyed by the existing pools as they expand their pool size.

But as in any industry, customers fear that a dominant player will abuse its position and increase prices. This fear results in some customers being willing to pay a higher price in some of their business in order to encourage a second player.

“These customers are happy when there is a second pool of a significant size so that there is a viable alternative to a dominant player,” Kris said. While the second player will have a higher cost structure, examples in Australia and elsewhere reveal that the second player can achieve a reasonable profit.

Over time, either CPC or PECO may fill in that secondary role in North America, Kris believes. “While it may not increase the actual efficiency of the system, a second pool may increase a system’s perceived efficiency. Users can see that the dominant pool can’t just rest on its laurels.”

Australia is a very stable duopoly. “CHEP has 80 percent of the market, Loscam has 20 percent of the market,” said Kris. “They both make reasonable returns -- CHEP higher than Loscam.”

Inefficiencies in the area of sorting and administration for customers, however, dictate that the long-term success of more than two pallet pools in single market is unlikely, according to Kris, a finding that may motivate new entrants to work together.

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